Interest in Environmental, Social and Governance (ESG) investing has grown significantly in recent years with consumers, driven by Generation X and millennials, considering the impact of their money and institutional investors looking to reduce risk exposure over the long term. This trend has accelerated during the COVID-19 pandemic with data from the Investment Association showing that inflows into ESG funds tripled in 2020. Last year, approximately a third of net retail sales were in responsible investment funds.
In an effort to understand how ABI membership is approaching ESG in pensions and serving customers the ABI undertook a survey of members who are Automatic Enrolment providers. We asked questions on how they engage with consumers on ESG, how ESG is incorporated into default funds and investment pathways and how providers expect Independent Governance Committees to scrutinise their proposition. The survey was followed up by interviews with several participants and analysis of ABI members’ ESG/responsible investing policies.
Consumer Engagement on ESG
Consumer interest in ESG has grown steadily over the past two years. Our members have experienced an increased focus from customers since early 2020, with interest growing rapidly since the start of the pandemic. The rise in interest coincides with an increased focus on environmental issues which include the protest movement led by Greta Thunberg, Extinction Rebellion, as well as an increased focus by the Government including the Department for Work and Pensions introducing climate change amendments to the now Pension Schemes Act.
ABI members regularly undertake surveys to understand customers and the general public’s knowledge of investments, pensions and to survey how their customers want to be communicated to. Our members have found that consumers want to know how their money is invested and what impact it has. Although, while consumers are now more engaged, many still don’t associate their pensions with news events in the real world. Members saw this first-hand with their customers when the news broke of the modern slavery issues at suppliers of Boohoo, most customers did not understand that they could be invested in a company affected. ABI members who partook in our survey state that their customers want them (the provider) to lead them on the issue, and their customers trust them with keeping on top of the issue and reducing ESG risk in their portfolio.
Despite the rise in interest there is still more work to be done – ABI members have found that consumer understanding is low, with one member reporting that only 25-30% of the general population know that their pension is even invested. For responsible investment to take off more needs to be done to educate the average consumer that their pension is invested and what good the money can do while invested. Members have undertaken some educational campaigns themselves; their efforts also include reducing jargon and terminology and presenting information in more digestible formats.
But common misconceptions still exist among the general public, particularly that in order to follow ESG principled investments, savers will have to sacrifice growth. However, our members have found the exact opposite to be true: in examining approximately 4,000 firms Fidelity International found that companies at the top of their ESG rating scale outperformed those with weaker ratings. Fidelity’s research points out that a company’s focus on sustainability depends on a well-functioning board and management and indicates that ESG risk factors should be taken into account when making investment decisions.
ESG in ABI members propositions
Over 85% of those enrolled in a workplace pension at our members are in the default fund, this increases the importance put on the integration of ESG risk factors into these funds. Our survey shows that ABI members have integrated ESG factors into the majority of their AE defaults and pathway investments. Members have developed their own responsible investment policies which either reflect or are in the process of being updated to reflect, the FCA’s, DWP and FRC’s guidance as well as the UK Stewardship Code. As a rule, ESG encompasses the entire proposition that members offer under AE and customers do not have to self-select funds in order to be in an ESG rated product. Some members surveyed have gone further and offer their customers a thematic range of funds to self-select from.
An ongoing debate in the ESG community is whether there is a choice between stewardship and divestment, our survey showed that ABI members have a preference for stewardship and will only divest after they have exhausted several avenues in attempts to pressure companies to change their practices. This approach is backed up by ABI members’ consumer research which has shown that investors prefer stewardship to improve a company’s performance on ESG metrics before divesting.
The Future of ESG
Our members do not see interest in ESG slowing down, although some have identified certain drawbacks, such as ESG funds cost more for customers. The price difference is due to the due diligence and expertise that goes into creating and running these funds. In interviews with members most stated they believe that the price will eventually come down although they may still remain more expensive than funds that do not integrate ESG.
Our membership as also seen Independent Governance Committees (IGCs) starting to take an active role in ESG policy following the expansion of their remit, and members have been asked to present them with comprehensive policies on the subject. IGCs have asked members to demonstrate that any changes to a portfolio to include ESG elements are consistent with optimising investment returns for customers and that trading costs associated with any portfolio re-construction are minimised. IGCs are focused on ensuring Value For Money is considered as ESG typically comes with a higher cost.
Going forward, the government, regulators and industry should work to make guidance on ESG clearer, there also must be more robust reporting process and definitions. The risk with current reporting requirements is that different providers will adopt different approaches as data is sourced from third parties who all adopt different processes and have wide ranging definitions. The end result at an aggregated level therefore may not be as useful to members as it doesn’t allow for comparisons between providers, or in some cases between one product to another product. As interest in ESG grows, so will scrutiny, in order to build consumer trust, we will work with our members and regulators to identify where guidance can be clearer and to ensure there is transparency and comparability in reporting processes and definitions.